Life as a retailer appears to be a daily battle to persuade increasingly disengaged consumers to buy more goods, more frequently. All the while, increasing numbers of competitors are appearing, as new ideas and niche brands from every corner of the world are becoming accessible via trusted internet platforms such as Amazon.
As a result, retail models are constantly adapting as businesses fight to remain relevant to consumers, while at the same time attempting to protect their fragile profits. It’s a cutthroat model.
The introduction of the High-Low pricing model
For the last 8 years, New Zealand consumers have been less willing to spend on goods and services. This is illustrated in the chart below, which shows New Zealand household consumption expenditure, inflation adjusted. Consumption expenditure has remained persistently lower since the global financial crisis, likely a result of lower confidence and a change in habits, tastes and preferences. The growth in new car sales has increased to new heights since the GFC slump, for example.
Source: Statistics NZ
In response to this lacklustre spending, most retailers have begun to adopt the ‘High-Low’ pricing model. The basic premise of this strategy is to attract customers with big discounts during limited promotional periods, funded by high prices outside of those periods.
Yet this strategy has become increasingly ineffective, as consumers have adapted to shopping only during promotional periods, and are becoming less willing to buy full price items. As a result, some New Zealand retailers are now adopting an Everyday Low Price (EDLP) model.
The rise of low prices
The phrase ‘Everyday Low Price’ (EDLP) was first adopted on a wide scale by Walmart, which used it with great success in the US during the 1990’s. The theory is that as well as saving on advertising and administrative costs, an EDLP model generates more customer loyalty as consumers are less likely to switch from shop to shop to find the best promotion.
In New Zealand, The Warehouse Group has announced it is transitioning its “Red Sheds” to an EDLP model. Even Kathmandu, which generates a high proportion of its revenue during its winter promotion, is trying to reduce reliance on this key sales period in order to reduce the volume of product sold as clearance.
The impact of ‘Everyday Low Price’ models for NZ investors
For investors, a company’s move from a High-Low to an EDLP model comes with a great deal of execution risk. Customer engagement must be high, because it is easy to lose the customers waiting for the next promotion that never materialises. It also requires an efficient and competitive cost base to maintain the lowest prices in the market.
For consumers, an EDLP model is arguably better. It enables us to better compare prices across different retailers. It means less waiting for discounts, as well as providing greater convenience. However, the savvy shopper may be less able to grab a bargain. The Australian listed conglomerate Wesfarmers successfully transitioned its Kmart chain to an EDLP model and has grown its sales by 28 per cent and doubled its return on capital employed in the last five years. However, the US retailer JC Penney lost 31 per cent of sales in the two years following its transition to a EDLP model in 2012 and its share price fell 82 per cent.
Ultimately, consumers will dictate if an EDLP model or a High-Low pricing model will be successful in New Zealand, as retailers will adapt to what consumers want. We believe retailers with the lowest cost base, the most efficient and adaptable business models and innovative management teams will be the most successful in the long-term.